Micro 4.Market Structures

Question 1

What is the most common firm objective?

Answer 1

Profit maximization

Question 2

(Long run profit) maximization?

Answer 2

In order to increase Long run profits
Firms will likely increase investment spending on capital

HOWEVER this will decrease SR profit and raise SR costs

Question 3

(Short run profit) maximization?

Answer 3

In order for short run profits to increase
Firms will attempt to decrease SR costs

HOWEVER
Firms will likely lower investment spending on capital to do this

Question 4

What are the 5 different market structures?

Answer 4

Monopoly

Perfectly competitive Market

Monopolistic competitive market

Oligopoly

Monopsony

Question 5

What effects the type of structure a market assumes?

Answer 5

Number of buyers and sellers

No. of Barriers to entry/exit

Similarity of Product with competitors

Amount of knowledge of the product held by both parties

Question 6

What is the N-Firm concentration ratio?

Answer 6

The % share of the market owned by N-amount of its largest firms

Question 7

What’s a perfectly competitive market?

Answer 7

A market with many small buyers and sellers, no barriers to entry/exit, homogeneous goods, and perfect information.

The firm diagram features Cost and Q on axes with:
A perfectly elastic demand curve, set a the market equilibrium price

Question 8

What are perfectly competitive firms referred to as?

Answer 8

Price takers

Question 9

What is a pure monopoly?

Answer 9

A firm with 100% market-share/ monopoly power within a market

Question 10

What is a legal monopoly?

Answer 10

When a firm has a market share > 25%

Question 11

What’s monopoly power?

Answer 11

The power a firm has to set their own prices, without greatly losing customers

The higher a firm’s market share the higher it’s monopoly power

Question 12

What’s the monopoly power of perfectly competitive firms?

Answer 12

ZERO, they are the only firms without any market power.

Question 13

What factors effect monopoly power?

Answer 13

No. of competitors- More firms = less price setting power

Barriers to entry- Less barriers to entry = more new firms = less market share

Product differentiation- A special product = recurring consumers + brand loyalty = more monopoly power

Technology- More take means it’s easier to find cheaper firms= less monopoly power

Question 14

Benefits of a monopoly?

Answer 14

More profit to invest in new innovations

Monopolies can produce more at a lower cost, due to internal economies of scale

Question 15

Cons of a monopoly?

Answer 15

Lower market quantity (higher prices and fewer goods)

Consumer choices / alternatives are restricted

Question 16

What does a monopoly diagram look like?

Answer 16

A regular supply / demand diagram, with a price set above the equilibrium and hence a quantity lower than the equilibrium

Question 17

4 Types of barriers to entry?

Answer 17

Legal barriers- Help monopolies legally prevent other firms from stealing their ideas

Sunk Costs- These costs cannot be recovered, so they raise the price of entering the market

Economies of scale- Incumbent firms can keep their costs and prices low, making it harder for new firms to compete on price

Brand loyalty- consumers are less likely to purchase from new firms with weaker branding

Question 18

What are the two ways in which firms compete?

Answer 18

Price Competition and Non-Price Competition

Question 19

What are the 4 types of price competition and how do firms use them?

Answer 19

Undercutting- Firms drop prices, to steal customers at the risk of losing profit

Predatory Pricing- Firms aggressively cut prices to eliminate competition, at the risk of losing SR profit

Limit Pricing- Firms use economies of scale to decrease LRAC and Prices, preventing new firm entry

Special offers- Firms attract new customers away from competitors

Question 20

What are the 4 types of NON-price competition and how do firms use them?

Answer 20

Advertising- Large firms use adverts to steal consumers and create brand loyalty (and inelastic demand)

Loyalty cards- Create brand loyalty and repeat consumption

Product differentiation- Special products draw consumers away from competition

Quality- investment into research and dev, produces more new innovations = higher quality products + more monopoly power

Question 21

What are natural monopolies?

Answer 21

Monopolies that occur when it’s naturally most efficient if only one firm is in the market

Question 22

Reasons why a natural monopoly may be advocated for?

Answer 22

High sunk costs

Huge internal economies of scale:

In order to reach their minimally efficient scale, output must increase, as LRAC decreases

Hence, more market share is needed to optimize market efficiency

Question 23

Price discrimination?

Answer 23

When a firm charges different groups of consumers different prices, on the same good/service, in order to maximize revenue.

Question 24

Why does price discrimination often help to revenue max?

Answer 24

Because different groups of consumers have different price elasticities of demand

Hence, elastic consumers are charged lower prices
and inelastic consumers are charged higher prices

Question 25

The 3 conditions that need to be met in order to price discriminate?

Answer 25

1. The firm must have market power, so it can set prices more freely 2. The firm must have information 3. The firm must be able to limit reselling of the good/service, so that inelastic consumers don't purchase elsewhere.

Question 26

1st degree discrimination?

Answer 26

Separation based on ability to pay- charging each consumer the maximum price they are willing to pay

Question 27

2nd degree discrimination?

Answer 27

When a firm gives discounts for bulk buying

Question 28

3rd degree discrimination?

Answer 28

When a firm charges different prices to different consumer groups based on price elasticity

Question 29

Features of a market in monopolistic competition?

Answer 29

Many small buyers and sellers Low barriers to entry/exit Differentiated goods

Question 30

How are firms in monopolistic competition affected in the long run?

Answer 30

Firms keep entering the market as monopolistic firms are making supernormal profit This causes AR and MR to decrease by stealing customers until AR is tangent to AC It stops here as there's no longer any supernormal profit to be made, and no new firms will join This is when the market reaches LR equilibrium

Question 31

Oligopoly?

Answer 31

A market featuring: A few large sellers High barriers to entry/exit Differentiated goods Interdependence between firms

Question 32

Why do oligopolistic firms experience interdependence?

Answer 32

One firms action will directly effect another firms

Question 33

What does interdependence cause?

Answer 33

Creates uncertainty as firms worry about each others potential decisions. Hence, firms use game theory to determine their best cause of action, which often leads to collusion (collusive oligopolies), as an alternative to price wars

Question 34

What is game theory?

Answer 34

A framework used for optimal decision making of players (firms) in a strategic setting- where there's high levels of interdependence.

Question 35

Collusive oligopolies?

Answer 35

A market dominated by a few large sellers, high barriers to entry, differentiated goods, and interdependence between firms- where firms collude to set the same prices and limit competition to avoid price wars.

Question 36

Price wars?

Answer 36

When firms repeatedly reduce their prices below that of competitors with the aim of offering the lowest price in the market

Question 37

Two types of collusion?

Answer 37

Overt Collusion- A formal agreement between firms to limit competition- ILLEGAL in the UK Tacit Collusion- An unspoken agreement between firms to limit competition Tacit collusion is caused by price leadership- when one firm changes their prices and the other firms follow suit.

Question 38

Limit pricing?

Answer 38

When an incumbent firm sets prices low enough to limit new firms entering the market, due to having access to economies of scale.

Question 39

Kinked demand curve?

Answer 39

Used to model oligopolistic firms Oligopolists produce at the profit maximisation point It has price rigidity

Question 40

Price rigidity?

Answer 40

When there's zero incentive for firms to change their prices when the kinked demand curve is in equilibrium Because of the respective changes in the elasticity of demand, even if costs shift upward price and quantity remain unchanged.